Monetary Policy & Inflation | US
Investors are obsessing about this Wednesday’s Fed meeting. Will the Fed raise their forecasts for policy rate hikes in 2023? Will they try to talk down the recent rise in US yields? But the larger question is whether the Fed is serious about raising inflation.
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Investors are obsessing about this Wednesday’s Fed meeting. Will the Fed raise their forecasts for policy rate hikes in 2023? Will they try to talk down the recent rise in US yields? But the larger question is whether the Fed is serious about raising inflation.
Since launching their new framework in 2020, the Fed has clearly indicated that they want inflation to overshoot their 2% target if there is a period of inflation undershooting. And there has been. The most recent CPI inflation print for February came out at 1.7% for the headline number and 1.3% for the core number. This suggests that the Fed should be targeting inflation of 2.5% to 3% for the coming year.
Yet examining consensus forecasts for US inflation reveals a near-term peak expected in PCE inflation of 2.4% over Q2, then for it to settle around 2% thereafter (Chart 1). Even the more extreme forecasts, such as those in the 75th percentile, only see 2.7% in Q2 before settling at 2.2%. Considering longer-term inflation expectations, household expectations have picked up but are only returning to 2015 levels (Chart 2). Meanwhile, professional forecasters have yet to raise their long-term forecasts meaningfully.
The Fed’s issue is not that recent US yields have risen, but rather, why are investors, economists and households not raising their inflation expectations more? The credibility issue could be that no one believes the Fed has the tools or appetite to raise inflation. It is no wonder markets are pricing Fed hikes as early as next year – they think the Fed will blink at the first sign of inflation.
Bilal Hafeez is the CEO and Editor of Macro Hive. He spent over twenty years doing research at big banks – JPMorgan, Deutsche Bank, and Nomura, where he had various “Global Head” roles and did FX, rates and cross-markets research.
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